IMF Executive Board Concludes 2014 Article IV Consultation with People’s Republic of China—Hong Kong Special Administrative Region

Press Release No. 14/238
May 22, 2014

On May 9, 2014, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation1 with Hong Kong Special Administrative Region.

Hong Kong SAR’s growth recovered to 2.9 percent in 2013 as resilient domestic demand helped offset the continued drag from net exports. As the global recovery takes hold, external demand is forecast to improve and lift growth to around 3¾ percent in 2014, while domestic demand remains solid. Inflation is expected to remain at around 4 percent, given the slow pass-through of housing costs. The labor market has remained strong, with unemployment slightly above 3 percent. The current account is projected to improve gradually in line with the global recovery.

Credit growth has been rapid since 2010. Low interest rates have fueled both corporate and household borrowing. As a result, corporate and household debt is at a record high. Financial integration with the Mainland has continued. More recently, credit has been driven mainly by lending to Mainland affiliates. Nonbank Mainland China exposure has risen to about 170 percent of GDP or 19 percent of total bank assets. The banking system is highly capitalized (Tier 1 capital ratio is just over 13 percent) and Nonperforming Loans (NPLs) are low at 0.5 percent. With larger pool of offshore RMB in Hong Kong SAR and more varieties of RMB-denominated assets, offshore RMB in Hong Kong SAR has already become one of the most traded emerging market currencies.

After a prolonged rise, both residential and commercial property prices have leveled off, albeit at an elevated level. The authorities’ have proactively implemented measures to safeguard financial stability and stabilize the property market. Supply-side measures have also been proposed with more land supply and a new 10-year housing target. Despite the recent price stabilization, housing affordability remains a concern with the highest price-to-income ratio among regional peers.

Rising inequality and population aging are adding to fiscal spending pressures and has led to a number of one-off initiatives in recent years, including waiving rates (annual fee paid by most property owners and occupiers), paying rents for public housing tenants, one-off tax relief, subsidies for electricity, transfers to the poor and elderly, and higher capital spending. A Commission on Poverty was established in December 2012 and published the first official poverty line last September, which will be used to facilitate policy formulation and assess policy effectiveness. A statutory minimum wage was introduced in 2011 and increased by 7.1 percent in May 2013. In line with the improved economic outlook, the 2014/15 budget includes a reduction in one-off measures of about 1.9 percent of GDP.

Executive Board Assessment2

Executive Directors welcomed Hong Kong SAR’s recovery from the 2012 slowdown and the favorable prospects for strong growth, low unemployment, and stable inflation. They noted, however, that Hong Kong SAR is susceptible to adverse effects from the Federal Reserve’s tapering and developments in the Mainland, and to risks from a potential price correction in domestic property markets. Directors, accordingly, recommended persevering with prudent policies, and welcomed the authorities’ determination to remain vigilant and take necessary steps to safeguard Hong Kong SAR’s macroeconomic and financial stability.

Directors welcomed the authorities’ plan to increase housing supply to improve affordability. They noted that the counter-cyclical prudential policies implemented over recent years should provide buffers to the financial system in the event of a property price correction. These measures should be unwound with caution as circumstances permit.

Directors welcomed the findings under the Fund’s Financial Sector Assessment Program (FSAP) that Hong Kong SAR’s financial system is well regulated and supervised, and commended the high level of compliance with international standards. They noted, nonetheless, that there may be scope for improvements as regards financial sector resolution and the oversight of the insurance sector. Directors also welcomed the FSAP stress test results, which suggest that the financial sector has the capacity to withstand a diversity of large and global shocks. They advised, however, that the large and rapidly growing exposure to the Mainland requires the continuation of close monitoring and cooperation with Mainland supervisors.

Directors took note of staff’s assessment that Hong Kong SAR’s external position is consistent with medium-term fundamentals and desirable policies. They agreed that robust and proactive financial supervision and regulation, prudent fiscal management, flexible markets, and the Linked Exchange Rate System (LERS) have worked well to keep the external position broadly in balance. Directors generally agreed that the LERS remains the best arrangement for Hong Kong SAR.

Directors commended the authorities’ track record of fiscal discipline. They considered the unwinding of stimulus in this year’s budget to be appropriate and welcomed efforts to cast fiscal policy in a long-term framework, as proposed by the Working Group on Long-Term Fiscal Planning. They noted that fiscal policy will need to strike a balance between addressing population aging and inequality-related needs while fulfilling the authorities’ commitment to low taxes and fiscal prudence.


Hong Kong SAR: Selected Economic and Financial Indicators, 2009–15
 
            Staff projections
  2009 2010 2011 2012 2013 2014 2015
 

Real GDP (percent change)

-2.5 6.8 4.8 1.5 2.9 3.7 3.8
  • Contribution

             
  • Domestic demand

0.5 6.7 5.9 3.8 3.9 3.6 3.8
  • Private consumption

0.1 3.8 5.1 2.6 2.7 2.6 2.6
  • Government consumption

0.2 0.3 0.2 0.3 0.2 0.2 0.3
  • Gross fixed capital formation

-0.8 1.7 2.3 1.6 0.8 0.8 0.9
  • Inventories

1.0 0.9 -1.7 -0.8 0.1 0.0 0.0
  • Net exports

-2.9 -0.2 -1.4 -2.2 -0.9 0.1 0.0

Inflation (percent change)

             
  • Consumer prices

0.5 2.4 5.3 4.1 4.3 4.0 3.8
  • GDP deflator

-0.4 0.3 3.9 3.7 1.2 3.5 3.4

Employment (percent change)

-1.1 0.0 2.9 2.2 1.8 1.1 1.0
  • Unemployment rate (percent, period average)

5.4 4.4 3.4 3.3 3.1 3.1 3.1
  • Real wages

-1.5 -0.4 2.7 1.6 1.0

Government budget (percent of GDP)

             
  • Revenue

19.2 21.2 22.6 21.7 21.3 21.2 21.4
  • Expenditure 1/

17.4 17.0 18.8 18.5 20.5 18.5 21.0
  • Consolidated budget balance 1/

1.6 4.2 3.8 3.2 0.8 2.6 0.5
  • Fiscal reserves as of March 31

31.4 33.5 34.6 36.0 35.3 35.1 33.2

Money and credit (percent change, end-period)

             
  • Narrow money (M1)

39.6 12.8 10.8 22.2 9.7 ... ...
  • Broad money (M3)

5.2 8.0 12.9 11.0 12.4 ... ...
  • Loans for use in Hong Kong SAR (not including trade financing)

-2.1 20.9 12.5 7.0 10.6 ... ...

Interest rates (percent, end-period)

             
  • Best lending rate

5.0 5.0 5.0 5.0 5.0 ... ...
  • Three-month HIBOR

0.1 0.3 0.4 0.4 0.4 ... ...

Asset prices

             
  • Hang Seng stock index (end of period, 1964=100)

21,873 23,035 18,434 22,657 23,306 ... ...
  • Hang Seng stock index (percent change)

52.0 5.3 -20.0 22.9 2.9 ... ...
  • Residential property prices (end of period, percent change)

28.5 21.0 11.1 25.7 7.7 ... ...

Merchandise trade (percent change)

             
  • Export volume

-12.5 17.3 3.4 1.8 6.7 8.4 8.4
  • Import volume

-9.5 18.1 4.7 3.0 7.6 8.0 8.1

Current account 2/

9.9 7.0 5.6 1.6 2.1 3.5 4.1

Foreign exchange reserves

             
  • In billions of U.S. dollars, end-of-period

245.6 257.1 269.9 300.5 311.1
  • In months of retained imports

33.2 27.5 24.6 26.5 26.4
  • In percent of broad money (M3)

28.7 27.9 26.0 26.0 23.9 ... ...

Exchange rate

             

Linked rate (fixed)

             
  • Market rate (HK$/US$1, period average)

7.752 7.769 7.783 7.755 7.756 ... ...
  • Real effective rate (period average, 2005=100)

90.1 87.8 84.3 85.7 87.6 ... ...
 

Sources: CEIC; and IMF staff estimates.

1/ Expenditure includes HK$50bn allocated for one-off health care reform for FY2015/16.

2/ Current account as a percent of GDP expressed in the BPM6 format.


1 Under Article IV of the IMF's Articles of Agreement, the IMF holds bilateral discussions with members, usually every year. A staff team visits the country, collects economic and financial information, and discusses with officials the country's economic developments and policies. On return to headquarters, the staff prepares a report, which forms the basis for discussion by the Executive Board.

2 At the conclusion of the discussion, the Managing Director, as Chairman of the Board, summarizes the views of Executive Directors, and this summary is transmitted to the country's authorities. An explanation of any qualifiers used in summings up can be found here: http://www.imf.org/external/np/sec/misc/qualifiers.htm.



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